Financial markets in Japan and South Korea have reacted negatively to the Iran conflict. TOPIX and KOSPI have declined by more than 4% and 7%, respectively, over the past two trading days. The JPY has depreciated nearly 1% against the USD, contrary to its traditional safe-haven status. The KRW has been the worst-performing currency in Asia, weakening by more than 2% against the USD.
Japan and South Korea are both highly dependent on energy imports, with a significant share of crude oil and LNG sourced from the Middle East. A sustained increase in energy prices would raise import costs, erode household purchasing power, and increase production expenses for manufacturers. This combination creates a stagflation-type dilemma for policymakers, as inflation rises while growth slows.
For Japan, a 10% increase in oil prices is estimated to raise CPI inflation by 0.2–0.4 ppt while reducing GDP growth by around 0.1–0.3 ppt. Takaichi’s government may respond by expanding fiscal support measures, including fuel subsidies, to cushion the impact on households and firms. However, additional fiscal stimulus could exacerbate existing market concerns about Japan’s fiscal sustainability. On the monetary side, the Bank of Japan is likely to adopt a more cautious approach to policy normalization, potentially delaying the next rate hike to June or July rather than April.
For South Korea, a 10% increase in oil prices is likely to raise inflation by 0.3–0.5 ppt and reduce GDP growth by 0.2–0.4 ppt, reflecting relatively higher energy price pass-through and industrial sensitivity. The Bank of Korea would face a similar trade-off between inflation control and growth support and may opt to extend its policy rate hold into the second half of the year.
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